Credit Suisse CoCo wipeout not a template for EU insurers

The decision by Swiss authorities to fully write down Credit Suisse’s Additional Tier 1 (AT1) notes, without imposing full losses on the bank’s equity, does not imply that EU and UK authorities will treat insurers’ Restricted Tier 1 (RT1) instruments the same way, according to Fitch Ratings.

AT1 notes are also known in the market as a form of contingent convertible bond, or CoCo.

Under Solvency II, certain types of subordinated debt can serve as a source of capital, or own funds, for regulated insurers. Since the Dutch insurer ASR issued its Restricted Tier 1 (RT1) debt in 2017, this type of CoCo subordinated debt has become commonplace.

According to Fitch, Credit Suisse’s AT1 notes were fully written down on the granting of extraordinary liquidity backed by the Swiss government to avert a crisis amid a rapid surge in deposit outflows. 

It added that the Swiss Financial Market Supervisory Authority viewed this as a “viability event” as set out in the notes’ terms, which triggered the write-down. In contrast, RT1 investors should not face write-downs due to liquidity considerations alone or due to interventions from the authorities whose timing and nature may be hard to foresee in a rapidly evolving crisis.

Fitch noted that RT1 write-down conditions are more narrowly defined than those of Credit Suisse’s AT1 notes. RT1 write-down would typically only be triggered by an insurer’s regulatory capital metrics falling below specified levels, and not by liquidity considerations alone:

“As EU and UK insurers’ assets and liabilities are broadly matched by nature and duration due to Solvency II requirements, a decline in capital to below trigger levels would typically occur much less rapidly than a run on a bank, even in a financial market shock. Insurers are also much less prone than banks to surges in outflows that could stress their liquidity or capital.”

“RT1 investors have priority over equity holders, and the EU and UK authorities have restated their commitment to adhere to the conventional creditor hierarchy for claims in bank liquidations, imposing losses first and fully on equity before then moving to subordinated creditors.”

“RT1 instruments often have equity conversion features. Conversion terms vary between instruments but conversion should leave investors no worse-placed than existing equity holders. RT1 instruments also feature fully discretionary coupons, which we would expect to be cancelled in a stress scenario. Fitch’s RT1 ratings incorporate a two-notch deduction to reflect this. Fitch treats coupon cancellation as non-performance.”

The agency added that Fitch-rated EU and UK insurers have minimal exposure to Credit Suisse’s AT1 notes relative to their capital and earnings. This is partly due to the high Solvency II capital charges that apply to sub investment-grade debt.